Fitch Affirms Mexico at 'BBB+'; Outlook Stable

February 25, 2015 11:58 AM Eastern Standard Time

NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed Mexico's long-term foreign and local currency
IDRs at 'BBB+' and 'A-', respectively. The issue ratings on Mexico's
senior unsecured foreign and local currency bonds are also affirmed at
'BBB+' and 'A-' respectively. The Rating Outlooks on the long-term IDRs
are Stable. The Country Ceiling is affirmed at 'A' and the short-term
foreign currency IDR at 'F2'.

KEY RATING DRIVERS

Mexico's IDRs reflect the following key factors:

Mexico's ratings are supported by the country's disciplined economic
policies, well-anchored macroeconomic stability and low imbalances, and
an adequately capitalised banking sector. If properly executed, the
wide-ranging economic reforms that are in the process of implementation
under the Pena Nieto administration bode well for medium term
competitiveness, investment and growth prospects. These strengths
sufficiently counterbalance Mexico's rating constraints, which include
structural weaknesses in its public finances, relatively low financial
intermediation and institutional weaknesses highlighted by the high
incidence of drug related violence and corruption.

Mexico's economic policy flexibility is facilitating an adjustment to
the changing external environment of lower commodity (oil) prices and
the withdrawal of monetary stimulus in the U.S. The currency has been
allowed to weaken to absorb external shocks and the Mexican Foreign
Exchange Commission has employed a rules-based FX intervention to ensure
proper liquidity and functioning of the FX market. The increased foreign
participation in the domestic government securities market represents a
source of vulnerability. However, enhanced international reserves
buffers since 2008 and access to the IMF's Flexible Credit Line provide
adequate support for continued external resilience. Macroeconomic
stability is further bolstered by a relatively moderate inflation rate
(4.1% at the end of 2014), which is expected to decline further in 2015
and moderate current account deficits, which are projected to
deteriorate slightly, averaging just over 2% of GDP during 2015-2016.

The Mexican economy is projected to grow at 3% in 2015, up from 2.1% in
2014 owing to the expected acceleration of the U.S. economy and the
easing of certain factors that weighed on confidence and growth last
year. Higher confidence and greater investment flows related to the
implementation of structural reforms passed in recent years should be
supportive of growth in 2016 and beyond. However, lower oil prices,
fiscal spending cuts and international volatility related to the
prospective tightening of U.S. monetary policy represent downside risks
for Mexico's economic performance in the near term. If the current
weakness in oil prices is sustained, it could delay and/or reduce
potential investment flows to the oil sector, especially related to
deep-water fields and unconventional sources.

The implementation of revenue-enhancing measures in 2014 proved to be
timely as it helped in offsetting the lower oil income last year and
will continue to contribute positively to revenues in the coming years.
The decline in oil prices and reduced oil production platform represent
challenges for the Mexican economy, especially for the fiscal accounts.
Near-term vulnerability of the fiscal accounts is mitigated by the
government's decision to execute an oil hedge to protect the federal
government oil income from materially lower-than-budgeted oil prices and
the recently announced spending cuts. The pre-emptive spending cuts
(amounting to 0.7% of GDP for the public sector) demonstrate the
commitment of authorities to maintain fiscal stability in the face of
lower oil prices and a sluggish economic recovery. Further fiscal
adjustments will likely be required for the government to meet its
medium term fiscal consolidation goals especially if the low price
environment is sustained and/or if oil production fails to increase as
per expectations. Fiscal buffers in the form of oil stabilization funds
to confront a structural oil price shock are relatively small.

The government is planning to gradually consolidate its fiscal accounts
in the coming years which should result in broad stability of the
government debt ratio. However, downside risks for fiscal and government
debt trajectories could emerge from subdued oil prices over a longer
period of time, adverse oil production trends and lower economic growth.
Mexico's effective liability management, favourable currency composition
of debt and excellent market access mitigate risks.

Certain high profile corruption scandals and the continuing incidence of
violence appear to have dampened domestic confidence and highlight some
of the institutional weaknesses of Mexico. The country ranks relatively
poorly on governance indicators related to the rule of law and control
of corruption. Fitch expects progress on these institutional weaknesses
to take time and foresees violence to remain regionally concentrated
although economic costs related to it will remain for the foreseeable
future.

RATING SENSITIVITIES

The Stable Outlook reflects Fitch's assessment that upside and downside
risks to the rating are currently balanced. Fitch's sensitivity analysis
does not currently anticipate developments with a high likelihood of
leading to a rating change.

The main factors that individually, or collectively, could trigger a
positive rating action include:

--A higher investment and growth trajectory that facilitates government
debt reduction and reduces Mexico's income gap with higher-rated
sovereigns.

--Material increases in fiscal flexibility and buffers to confront
shocks.

The main factors that individually, or collectively, could trigger a
negative rating action include:

--Weak economic performance and material fiscal deterioration leading to
a sustained worsening of government debt dynamics will be negative.

--Lack of an adequate policy response in the case of sustained pressure
on oil fiscal income that dents confidence, flexibility, and credibility
of fiscal policy.

KEY ASSUMPTIONS

The ratings and Outlooks are sensitive to a number of assumptions:

--Fitch assumes that economic growth in U.S. accelerate to 3.1% in 2015
and 3% in 2016, thereby providing an external demand boost to the
Mexican economy.

--Fitch prepared its forecasts on the basis that the (Brent) oil price
averages USD70/bbl in 2015 and USD80/bbl in 2016, although downside
risks remain to these projections given the current low oil price
environment.

--Fitch assumes that the Mexican government will adhere to its medium
term fiscal consolidation plan with the non-financial public sector
deficit (excluding Pemex's investment) reaching a balanced position by
2017.

--Fitch assumes that the drug-related violence does not seriously
threaten the overall governability of Mexico.

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